Q. and A. With Charles Plosser of the Fed: Raise Rates Sooner Rather Than Later

The Federal Reserve issued a unanimous policy statement for the first time in half a year on Wednesday, but that doesn’t mean internal differences have dissipated.

The Fed changes the membership of its policy-making committee each year, and in the latest rotation, some of the most frequent dissidents lost their voting seats.

Those officials, however, remain concerned about the course of policy. In an interview before the most recent meeting, Charles Plosser, president of the Federal Reserve Bank of Philadelphia, described his reasons for fearing that the Fed was retreating too slowly from its stimulus campaign.

Mr. Plosser, who plans to leave the Fed in March, before the end of his term, also reflected on the Fed’s performance during his nine years as a policy maker at the central bank.

You want the Fed to move more quickly toward raising short-term interest rates even as inflation decelerates. Why aren’t you worried that inflation is below your 2 percent target?

We’ve all been kind of expecting this given what oil prices are doing. A few years ago when oil prices shot up, we looked through that, and it’s important that we do that now. It’s not been surprising to me that the headline numbers have been soft. The bigger question is what happens in four to six months. Will inflation begin to drift back up toward our target? I think it will. I’m kind of comfortable with that for now. The oil decline does seem to have at least stabilized.

Does your confidence basically rest on the stability of inflation expectations?

I think the evidence seems to suggest over the last decade or so that underlying inflation has been remarkably sticky. It doesn’t move around very much. And that’s not all bad. One interpretation of that is that expectations have remained pretty stable and economists have come to believe that expectations play an important role in determining actual inflation. And to the extent that’s been pretty sticky and stable that might be the reason why we haven’t gotten the reactions that we might have. But I don’t think we have very good models of inflation, particularly in the short run. There was no deflation at the heart of the crisis as Phillips predicted. The best model we have going for us is the stability of expectations, which is why I’ve said over the years that it really is the stability of expectations that’s important.

Why do you think survey-based measures of expectations, which have held steady, are more accurate than market-based measures, which have declined recently?

Forecasters have been better judges than the market measures. It’s one of those areas where there’s theory and empirical work, and the empirical evidence seems to be that inflation is kind of sticky. The underlying inflation seems pretty slow-moving and persistent. Forecasters generally understand that, even if we don’t fully understand why, and so forecasts that rely on that persistence seem to do well. The bigger challenge is trying to understand why that’s the case. That’s a story and it’s kind of the best thing we’ve got going for us.

You also don’t see low inflation as an indication that the economy is still weak.

I think that view clearly and historically was challenged rather significantly in the '70s and it failed, and I think that view failed in the early part of this recession when the economy fell out of bed by anybody’s definition and inflation didn’t move that much.

It’s a question in part I believe about uncertainty and measurement error. I think working with slack is a really challenging thing that we measure with error — we don’t even have good theories of what we ought to be looking at in the first place — and so I oftentimes have said, “Look, as a policy maker when you want to make policy, the general principle is that you try not to place too much weight on something you measure with a lot of error.”

Your dissents over the last year basically took issue both with the Fed’s communications strategy and with the content of the message. What is wrong with the message?

We have had a better economy than we thought it was going to be; we’re way ahead of where we thought we were going to be. As a committee we say we’re data dependent. And if we’re going to be data dependent, we need to explain why we’re ignoring the data, why we’re not reacting to the data. Our forecasts are changing. Why aren’t we changing the message?

By standing still do you think that the Fed effectively has loosened policy?

By keeping the balance sheet flat and leaving the forward guidance in place, yeah.

Given the low level of inflation, what’s so dangerous about pressing for faster growth?

It may work out just fine, but there’s a risk to that strategy, and the risk is that we wait until the point where markets force us to raise rates and then we have to react quickly and aggressively. I believe that if we wait too long, then we run the risk of falling very far behind the curve or disrupting the economy by rapid rate increases. I would prefer us not to be in that bind because then we really will be between a rock and a hard place. There’s no way at the end of the day that we can change policy without having some volatility. But I would prefer us trying to be a little more — I guess Greenspan would have called it pre-emptive — but monetary policy works with pretty long lags sometimes and so I think we have to be prepared. I’d prefer us acting a little earlier and being able to go gradually than having to wait a long time and having to go rapidly.

Trying to avoid the kind of thing that just happened in Switzerland?

I have a lot of sympathy for Switzerland. It’s a small country that depends heavily on the eurozone for its exports. They’re at risk because of that. Nothing they can do about it. And the danger is any time you try to use monetary policy to either thwart or offset or fix something that you’d like to change in the real economy, you typically fail. Market forces overwhelm you.

In Switzerland’s case they tried to peg their currency as a way to keep it from rising and support the real economy. But Europe is weak. The E.C.B. can’t solve the structural problems that Europe has, and if Europe is going to remain weak, Switzerland also has a problem. And they can’t cover it up with monetary policy. They can’t afford to do it anymore. They can’t solve the fundamental problem of the trade relationship between a small open country in the middle of Europe and the rest of the continent.

The history is that monetary policy is not ultimately a very effective tool at solving real economic structural problems. It can try for a while but the problem then is that it’s only temporarily effective, and when you can’t do it anymore you get the explosion yesterday in the Swiss market.

One of the things I’ve tried to argue is look, if we believe that monetary policy is doing what we say it’s doing and depressing real interest rates and goosing the economy and we’re in some sense distorting what might be the normal market outcomes at some point, we’re going to have to stop doing it. At some point the pressure is going to be too great. The market forces are going to overwhelm us. We’re not going to be able to hold the line anymore. And then you get that rapid snapback in premiums as the market realizes that central banks can’t do this forever. And that’s going to cause volatility and disruption.

O.K., now for the way that the Fed communicates. How should the Fed describe its plans?

I would like us to focus more on describing how monetary policy reacts to data. We need to talk about, “This happens and we’re going to do this, that happens and we’re going to do that." And in doing so you begin to communicate more to the public about, “How does the F.O.M.C. think?" And you try to provide some consistency and then the public and the markets learn from that how we’re likely to act in the future. To me that’s better than forward guidance. Why do we want to make commitments about the future when we don’t know what it holds?

Date-based guidance sometimes seems like a way for the Fed to achieve a consensus without actually achieving agreement.

That’s actually part of a challenge for the goal of consensus policy-making. To build a consensus you make vague statements that everybody can interpret any way they want to. Is that good communication? No, because everyone on the committee gets to interpret it their own way and then people get confused as to what it really means.

In retrospect, in reflecting upon the way that policy gets made, I think the desire to create big tents in the language actually becomes somewhat counterproductive to effective communication. I don’t have an easy answer. But it’s something that’s worth thinking about.

You go to the Bank of England, you see votes there 5-4, 6-3, all the time, and it’s not a big deal. People disagree but by disagreeing it allows the statement to more accurately reflect the views of the people that voted for it, and so the people that didn’t vote for it can be more articulate about why they disagree, so the differences and the range of views becomes more clear.

A lot of people speculated when the Bank of England started doing this that it was going to cause disruptions. It didn’t. It allowed people to better assess what the future might look like because the differences weren’t papered over.

Basically prioritize precision over consensus.

Yeah.

Some of your colleagues don’t see dissent as a useful gesture. Do you think your dissents have been effective?

I don’t know how effective it has been. I’m trying to accomplish a couple of things. I think it’s very important in the Fed and in other organizations that we openly discuss and debate different points of view. I think this has been extraordinarily important, even more so in challenging times than in normal times. We’ve entered a period where we’re kind of in uncharted territory. We don’t fully understand what happened or what made it happen. Economists are still debating the Great Depression. We’re going to be debating this for a long time, too. So this is a period of uncertainty and so you have good people sitting in that room, smart people, trying to figure it out. And it shouldn’t be surprising at all that all of these smart people have different ways of thinking about this. This is not a conventional episode.

I also think it’s an important thing to convey to the public that all of these different views are being debated within the Fed. It ought to be — I know the markets don’t like it — but ought to be reassuring in terms of public confidence that there’s a healthy debate going on. Always striving for unanimity creates a false sense of certainty that we know more than we actually do.

I also think if I’m going to go out in speeches and communicate ideas and differences of opinion and then not vote, that’s not very credible. That’s saying one thing and doing another. Why would you have a different view in public but not live up to that view inside the meeting when you take a vote? I think I have to match those two things.

Would the economy be better off if the Fed had stopped buying bonds in 2010?

I do think of QE1 and the subsequent QEs as very different. QE1 was a true liquidity event as far as I’m concerned. It was a financial crisis. I have some disagreements about how we went about doing that, but I think it was entirely appropriate for the Fed to address the liquidity issues in the midst of the crisis. We did what a central bank ought to do.

But by 2010 we weren’t in a financial crisis anymore. My own view is that the rationale switched completely. It was no longer about providing liquidity; it was about providing stimulus at the zero lower bound.

I think the benefits were small. I haven’t changed my view about the benefits. And I think the jury is still out on the costs. Because the cost I was worried about was the longer-term cost of unraveling all of this. So maybe I was right, maybe I was wrong. That remains to be seen.

I do worry about the longer-term implications for the institution. Part of my criticism has been that we have pushed the boundaries into fiscal rather than monetary policy. That has brought us praise and opprobrium. Perhaps justifiably on both counts. I do wonder as I look down the road five or 10 years, how will that shape the institution? What happens to our independence? What happens to our ability to do things effectively? Given all that we’ve done — maybe it was all for the best, but even if it was — are there going to be longer-term ramifications that we may end up regretting later?

What comes next for Charles Plosser?

Who knows? I’m 66 and it’s time to slow down a little bit. I will hang around teaching, writing, but who knows what opportunities will present themselves? I haven’t made any commitments. I feel privileged and honored to serve the country as best I could during this unusual time.